Mundy, who also manages the equity-only Investec UK Special Situations fund, is bearish in his outlook for markets, saying they could be vulnerable to an unexpected shock. “Valuations are generally high in equity markets, which is odd given we are surrounded by great vulnerabilities and fragilities in the financial system,” he said.
“When valuations are stretched, macroeconomic concerns become harder to ignore. It is a bit of a 'least-ugly competition', with investors reluctant to switch to cash.”
“We believe this encourages the push to unsustainable levels and believe there will be long-term benefits to current inactivity.”
One of Mundy’s worries surrounds quantitative easing from the world’s central banks. The manager says that investors have become complacent about inflation, which is still likely to be the eventual outcome. For this reason he holds gold and index-linkers in his mixed-asset fund.
“In a desperate desire to avoid deflation, central banks may well inject so much into the system that avoiding longer term inflation will be very hard,” Mundy said.
“Yet central banks appear to have extraordinary confidence (or at least they pretend to) in their ability to control inflation and control the exit strategy from quantitative easing. There is no proof whatsoever that they’ve got those abilities.”
“To analogise, in the old days when you pressed ‘page down’ on the computer, nothing happened and then eventually the function kicked in and would leave you on row 10,000.”
“My worry is that central banks will discover fine-tuning their policies more difficult than they believe. I am therefore happy to hold gold as an insurance policy in case investors develop fears around central bank competence,” he added.
The S&P 500 and the FTSE All Share have returned in excess of 30 per cent over 24 months and many industry experts say this has been largely down to ultra-low interest rates and money printing from the world’s central banks.
Performance of indices over 2yrs
Source: FE Analytics
The same experts also agree that when the Fed does begin tapering its $85bn a month asset purchasing programme, then there is likely to be volatility.
However, Mundy says that although this will create turbulence in the market, he is more concerned that investors are worried only about tapering when, in his opinion, there are plenty of other macro headwinds that could derail the rally.
“Investors know that there are risks but they are underestimating the spread of potential risks and overestimating their ability to react to potential risk events,” he said.
“The spread of outcomes in the consensus view is a lot tighter than we are considering.”
“The markets are myopic and focused on tapering, which means that they are not really prepared for any other shocks which could come from Chinese economic growth disappointment, a crisis in the eurozone, social unrest in emerging markets or trade wars caused by currency devaluations,” he added.
Mundy’s biggest concern is how bullish investors are becoming on Europe.
European equities have surged this year, buoyed on by positive rhetoric from policy makers and better economic data.
Performance of index over 1yr
Source: FE Analytics
Paul Wild, for example, recently told FE Trustnet that the economic recovery in Europe should continue next year, while FE Alpha Manager Barry Norris has started buying Greek equities again for the first time since 2006. Mundy, on the other hand, doesn’t share their optimism.
“Investors are positive on the outlook for Europe but the structural issues still remain,” he said.
“Budget deficits are still reasonably high and consequently government debt as a percentage to GDP is still growing. So it seems that all the worries we had when Reinhart and Rogoff [economists who warned of the effects of large amounts of sovereign debt] were taken seriously a couple of years ago have got worse, but attention is being paid,” he said.
Mundy has managed the £2.7bn Investec Cautious Managed fund since August 2002.
According to FE Analytics, it is the fourth-best performing portfolio in the IMA Mixed Investment 20%-60% Shares sector over that time with returns of 113.27 per cent, beating the average fund by more than 35 percentage points.
Performance of fund vs sector since Aug 2002
Source: FE Analytics
The fund has also beaten the sector over rolling three-, five- and 10-year periods and in eight out of the last 10 discrete calendar years.
However, Investec Cautious Managed has underperformed this year, with the major reason being that Mundy has favoured a very defensive portfolio.
This is because he says there is a general lack of value in the equity market as investors have already jumped on the best opportunities.
“We are defensively positioned with significant allocations to cash, gold and index-linked bonds. We worry asset classes will be highly correlated in a future market sell-off and are looking to dampen some of this effect,” Mundy added.
In his Investec Cautious Managed fund, Mundy holds 24 per cent in cash and cash-like assets. For example, more than 14 per cent of the fund is invested in a gilt that matures in March next year. Mundy also has 12.6 per cent in index-linked government bonds and a further 4.6 per cent in gold bullion.
Investec Cautious Managed has an ongoing charges figure (OCF) of 1.6 per cent and requires a minimum investment of £1,000.
